As I mentioned last week, the Eurozone is far from being an optimal currency area. The current recession has made the difficulties of the Euro become more prominent - especially for the peripheral areas of the Eurozone - Portugal Ireland, Italy Greece and Spain.
The Problems Facing Greece are:
Rising Government Debt to over 100% of GDP. A budget deficit of 12% for this year. This level of debt has started to make markets wonder whether the government might default. This fear has led to people selling Greek bonds and pushing up the interest rate. Greek debt is now much more expensive than German Debt.
Uncompetitive Economy. The Greek economy is uncompetitive. Rising wages have not been matched by rising productivity. THe lack of competitiveness has led to a fall in demand for Greek goods and a very large current account deficit (imports greater than exports)
No Ability to Devalue. If Greece had their own currency, the currency would devalue to help restore competitiveness. But, being in the Euro, they are not able to devalue and regain competitiveness.
Recession. Greece GDP fell last year by 1.2%. This increases the budget deficit and leads to higher unemployment.
So Called Solutions will Only Make Things Worse. Greece is being told it needs to tackle its fiscal deficit with immediate effect. This involves - higher taxes, cuts in public sector wages and lower government spending. But, when the economy is facing - a fall in output, rising unemployment and the very real threat of deflation a deflationary fiscal policy without a corresponding loosening of monetary policy could make things worse. - The budget deficit does need to be tackled, but, the economy needs some monetary stimulus (Quantitative easing and to prevent a collapse in demand
Needless to say, the triple whammy of higher taxes, lower wages and cuts in government spending are about as politically popular as suggesting Greece bailout the Turkish economy. - Greek farmers are already protesting
Some think the main EURO members (i.e. Germany ) will bailout profligate Greek taxpayers and inefficient governments. It's the same kind of mindless optimism that certain British politicians had in 1992, when they fully expected Germany to bailout the Pound and keep it in the ERM. (Britain soon was forced out and devalued 20% - much to the relief of the economy it has to be said.) But, I really can't see the German taxpayer bailing out not just Greece, but, Italy and other members.
The Greek economy is in a real mess - and it's not just the high government debt that is the issue. In fact solutions, to reducing debt could cause a deep recession (which will reduce tax revenues even further.) They need to tackle the deficit, whilst boosting the economy in other ways. At the moment, they are being asked to do all the painful things without any anaesthetic.